Rate cut a boon for borrowers, investors

Tom Abate and Michael Gray, OF THE EXAMINER STAFF

Published 4:00 am, Friday, July 7, 1995

Borrowing costs for millions of Americans who have racked up credit-card charges or borrowed money for cars and home repairs should be modestly eased after the Federal Reserve said it would cut interest rates.

The reduction, announced Thursday by Fed Chairman Alan Greenspan, will lower the federal funds rate - the rate banks charge each other for overnight loans - from 6 percent to 5.75 percent. The discount rate - the rate the Fed charges for direct loans to banks - will remain at 5.25 percent.

The action won't make a big dent in wallets, but should be the first in a series of rate cuts this year, analysts said. Consumers could see significant savings from lower borrowing costs in time for the holiday shopping season.

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Taken as a whole, however, consumer savings will be more pronounced. Americans have racked up about $929 billion in credit-card debt, so the rate cut means nearly $1 billion in lower interest charges.

A few large U.S. banks, including Bank of America and Banc One, quickly cut their prime lending rates to 8.75 percent from 9 percent in response to the move.

Because the Fed left the discount rate unchanged, it's not clear how quickly other banks will lower their rates.

The Fed cut was the first in nearly three years and came as evidence mounted that the economy could be headed toward recession. Also Thursday, the Commerce Department reported that the Index of Leading Economic Indicators declined 0.2 percent in May, the fourth straight monthly decline. The index dropped 0.6 percent in April and 0.4 percent in March.

Still, some economists expect a rebound late this year because of falling long-term interest rates and as a buildup in business inventories is depleted and manufacturers begin to restock.

"We think the current national slowdown is temporary due to inventory accumulation, and we expect the U.S. economy to come back to a 2 percent growth rate," said John O. Wilson, executive vice president and chief economist at BankAmerica.

In an interview with The Examiner Thursday, Wilson commented on the Fed's action and the outlook for the economy:

Q: Will the Fed cut rates again?

A: The Fed has clearly reversed its course. When it makes a move as it did Thursday, it's clear it has turned the corner and rates are headed downward.

I think rates might head down further by the end of the year, maybe another 25 basis points, depending on the strength of the economy over the next six months. The Fed is targeting a "soft landing" for the economy next year, which means sustaining the economy at about a 2-1/4 percent growth rate. They would also like to see an inflation rate of 3 percent or less, but I expect it will be around 3.3 percent.

Q: What is the long-term outlook for interest rates?

A: We are looking at a period of fairly low interest rates over the next several years. I think we are looking at an economy that is very reminiscent of the 1950s and early '60s: relatively strong growth, fairly low interest rates and low inflation.

The stock market is anticipating this. The outlook for the U.S. economy looks remarkably good after what we've been through, a decade of economic adjustment, cost-cutting and improved production. If Congress can achieve anything close to a balanced budget by the end of the century, we may have the the makings of a very strong economy.

Q: What does Thursday's move mean for the interest rates most important to consumers: savings accounts, auto loans, credit cards, mortgages?

A: Clearly this is good news for the consumer who is borrowing. For consumers who are saving, the news is also good. I expect the cut in rates to stimulate equity funds and that their profitability will continue strong.

As far as mortgages, rates have come down significantly since January, from 9.2 percent to 7.7 percent for 30-year fixed-rate mortgages. But during the past several weeks, mortgage rates bottomed out and began to move up again.

(The Federal Home Loan Mortgage Corp. said Thursday the average 30-year fixed-rate home mortgage rose to 7.63 percent in the week ending July 7 from 7.53 percent the previous week. Freddie Mac said the 15-year rate rose to 7.11 percent from 7.03 in the week, while one-year adjustable-rate mortgages rose to 5.86 percent from 5.84 percent last week.)

The Fed easing rates will reverse that course. This is setting the stage for a rally in the construction industry this year. Major builders have been anticipating this move by the Fed. For the housing market, this is just what the doctor ordered.

Q: Should I think about buying real estate now before interest rates run back up?

A: Rates are not going to run back up anytime soon. But in real estate, you don't buy just on rate movements. A buyer should be looking at this decision right now as a long-term investment, not as an investment for speculative gain.

If you were looking to buy a house, now's the time to start looking.

Q: Why does the stock market like the interest rate cut?

A: The market likes the Fed move because it has been anticipating a stronger economy over the long term. Business investment plans are strong, corporate profits look good. In essence, the American economy may well be poised for a long period of sustained growth reminiscent of the 1950s and early '60s, as I mentioned earlier.

Q: What is the bottom-line significance of the Fed's action?

A: The major message is that the Fed has turned the corner on rate increases. For the Fed, it was a matter of whether to act now, or to wait for a few more economic numbers. The Fed clearly chose to act early, to ensure a soft landing in 1996. They wanted to jolt the economy out of its current doldrums.

Overall, I think the Fed is doing an outstanding job of steering the economy through some rough times.&lt;

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